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Although it feels like a lifetime ago, it’s only been two months since Genesis announced it needed a $1 billion liquidity injection following the FTX and Alameda crisis. As the weeks dragged on without resolution, details of the story became more public, raising allegations of fraud against Digital Currency Group (DCG), which were disclosed by Gemini co-founder and president Cameron Winklevoss. The twins are still trying to recover $900 million in assets from Genesis that were used to generate revenue for their Earn customers.
The unsolved and only growing problems of DCG and Genesis weigh heavily on the bitcoin market because there are so many answers needed and so many different possible outcomes yet to be resolved.
The biggest question is what will happen to Grayscale Bitcoin Trust (GBTC) and how these issues will potentially affect the price of bitcoin. GBTC has been the preferred vehicle for many to gain regulated bitcoin exposure, and it has also been a breeding ground for speculative arbitrage strategies in previous shifts from premium to discount to net asset value (NAV). A US-approved bitcoin spot ETF would likely solve these problems, but we’re still a long way from that happening.
It’s easiest to start with the GBTC shares estimated to be on DCG’s balance sheet. 9.67% of all supplies. Selling those shares is potentially an option if DCG raises cash or goes through Chapter 11 bankruptcy. Selling into an already illiquid market puts more pressure on the historically low GBTC discount. DCG owns approximately 67 million shares in a market that trades less than 4 million shares per day. However, the more important factor is that by law the DCG can sell more than 1% of outstanding shares every quarter. They need about 2.5 years of continuous sales to sell all their shares.
Another way is probably for GBTC, along with other Grayscale trusts, to fall into the hands of a new sponsor and manager. Valkyrie already suggested doing this:
- Allow investors to redeem shares at NAV through a Regulation M filing request (although it is unclear whether the Regulation M request will be approved by the SEC).
- Fees as low as 200 basis points as low as 75 basis points.
- Try to offer investors both cash and spot bitcoin repayments.
The new manager option allows investors to exit investments at NAV.
The GBTC product is still a cash cow for Grayscale and DCG, with a 2% management fee – forever. Among all major trust products, Grayscale is raising more than $300 million this year in management fees alone. In the worst case scenario, there will be plenty of buyers willing to take on the driving without a US spot bitcoin ETF available in the market rather than liquidating the entire trust.
However, cancellation is not a non-zero probability. In the event of Grayscale’s insolvency or bankruptcy, may be voluntarily revoked unless 50% of the shares vote to switch to a new sponsor. There is an upside to DCG liquidating the trust as there is money to be made from their NAV-locked shares, but this results in bitcoin being sold on the open market. No one wants to see 632,000 bitcoins — about 3.3% of the current supply — turn into selling pressure in the market. In the unlikely scenario of a full liquidation of the trust with USD cash being returned to shareholders, it can be assumed that most of the sale will be absorbed through over-the-counter deals with interested investors. This is purely hypothetical at this point.
New information is emerging that has the potential to change the superstructure of the dynamics between Grayscale and shareholders of Grayscale products. We will continue to write about the events in the coming weeks.
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